Malaysia: Manufacturing Drives Growth

The saga of its transition from a commodities producer to an industrialized nation

MALAYSIA AND THE WORLD

Nominal GDP ($)

312 billion

GDP Rank

35/191

Per Capita GNI- Nominal ($)

$10,400

Per Capita GNI Rank

88/213

Population Rank

43/228

Geographical Area Rank

67/252

Global Competitiveness Rank

20/144

Economic Freedom Index Rank

37/178

Human Development Index Rank

64/187

Major Industries

Electronics, Palm Oil, Natural Rubber, Chemicals, Machinery & Tourism

Sandwiched between immense stretches of the South China Sea are the twin regions of Malaysia, with one peninsula bordering Thailand and Singapore in the east, and the other half neighboring Indonesia and Brunei.

One of Asia’s most vibrant economies, Malaysia’s 26.6 million population is dominated by ethnic Malays who make up 60% of the population. The Chinese, one of the wealthiest communities in the nation, comprise around 23% of the population, with Indians forming a tinier section.

A tumultuous history

Most likely, Malays arrived on the peninsula in the first millennium BC. Their first cultural contact was with sea-faring Indians who left behind a permanent footprint on the country’s shores. Centuries of Hindu-dominated Indian rule followed. Later, Indians also brought with them, the religion of Islam, which remains the dominant religion in this officially Islamic country.

The nation then was juggled by a series of colonial hands, with the Portuguese, Dutch and later the English staking claims on the riches of Malaysia. During the initial British rule, many Indians and Pakistanis were brought over to work in Malaysia’s tin industry and plantations. Chinese migrants from southern China also arrived in droves to work in the tin mines of Perak and Selangor. Occupied by the Japanese during World War II, and then taken over by the British again, Malaysia finally claimed its independence in August 1957. The path to independence was not easy, although the nation has made rapid strides in improving the economic and social status of its people. War with Indonesia coupled with the secession of Singapore, has caused teething pains for a growing nation.

Built in the late 1890’s in Kuala Lumpur during British rule, the Sultan Abdul Samad building stands in stark contrast to the modern swagger of the majestic Petronas Towers constructed nearly 100 years later.

System of Governance

With a constitutional monarchy, Malaysia’s current head of state is Sultan Mizan Zainal Abidin, who became the country’s 13th king in 2006. However, real authority is vested with the prime minister, who at present is Najib bin Abdul Razak. His predecessor, Mahathir Mohamad Badawi, unveiled Vision 2020, an ambitious plan calling for the globalization of Malaysia. With a goal to put Malaysia on the developed nation map, the plan envisions a Malaysian economy eightfold stronger than that of the early 1990s.

An ethnic divide

Malaysia’s tumultuous history has created an ethnically fractured society. With the Chinese long viewed as the wealthier community, unrest has sparked among the more deprived Malays and indigenous peoples. Clashes between the Malay and Chinese reached their zenith in 1969, which witnessed large-scale rioting.

Today, the country’s ethnic fusion of Chinese and South Asians has created a colorful and diverse culture. A rich kaleidoscope of Chinatowns, Little Indias, Confucian temples, and Mariamma temples stand amidst the mosques that dot this officially Islamic nation. On the surface, these communities exist in relative harmony, but racial undertones still smolder. The latest uprising by Indians earlier this year (2008) is a vivid reminder that diversity and harmony are often separated by a thin borderline. Although English is one of the official languages, Chinese, Tamil, Malay, and Malayalam are widely spoken.

Commodities to manufacturing-led exports

The Leong San Tong Kongsi Temple in Penang is a beautifully ornamented Chinese clan house built in 1906.

Economically, the former British colony of Malaysia had nothing much to boast about except commodities such as tin, rubber, and palm oil, which only served to enrich the coffers of its imperial master. That was then. Political independence came in 1957 and along with it the freedom to explore new avenues of economic growth. Like the colonial shackles that the country shook off, Malaysia has long since overthrown its dependence on these commodities and has diversified into an industrialized nation, with a gross domestic product (GDP) that has grown at a rate of almost 8% to 9% from 1991 to 1997. The post-war period saw the production of consumer items such as batteries, paints, tires, and pharmaceuticals. A range of industries emerged, from textiles, rubber and food products, chemicals, and telecommunications equipment, to electrical and electronic machinery/appliances, car assembly and some heavy industries, such as iron and steel. According to an economic overview report on Malaysia published by the government of Australia, manufactured goods accounted for 67% of the country’s exports in 2012, while electronic and electrical products contributed 32.9%.

Today, Malaysia is one of the biggest exporters of semiconductors and electronic goods and devices. With about 40 semiconductor companies currently operating, the semiconductor industry contributes about 30% of Malaysia’s total manufacturing sector output. International multi-national companies have set up assembly and testing units in Malaysia.

Despite the transition to a manufacturing-based economy, Malaysia, along with Indonesia and Thailand, still account for 72% of the world’s natural rubber production. The country is also the world’s second largest exporter of palm oil. Significant reserves of oil and gas have also been found, with current oil reserves estimated at around three million barrels. Oil production occurs near Peninsular Malaysia as well as the regions of Sabah in east Malaysia and Sarawak. Natural gas production has been steadily rising, with several companies engaged in its production.

Mirroring the economic transition was Malaysia’s transformation from a low-income country to a middle-income one, thanks to steady economic growth over the last few decades. A World Bank report points out that real growth in GDP per capita has averaged over 3.6% since 1980, rising to $11,700 in 2013. In the three decades beginning in 1970, Malaysia registered an average growth rate of around 7%, despite the Asian financial crisis of 1997-98. Even the Asian crisis was handled well by Malaysia; it implemented a number of sweeping reforms, in contrast to the inadequate responses of its neighbors Thailand and Indonesia. The restructuring of the nation’s banks involved injecting billions of ringgit — the Malaysian currency — into their coffers in return for agreeing to merge with bigger, well-capitalized banks. The clean-up also involved putting controls on capital flows and foreign exchange and the introduction of a dollar peg for the ringgit.

Malaysia, along with Indonesia and Thailand, account for 72% of the world’s natural rubber production.

However, for the export-dependent economy, which has the U.S., Japan, and Singapore as its main trading partners, the financial crisis of 2009 came as a rude shock. The economy slumped 1.7% in 2009, though it bounced back the next year with 7.2% growth, thanks partly to the government’s $16-billion economic stimulus and the nascent global economic recovery. Malaysia grew 5.1% in 2011 and 5.6% in 2012, thanks to good domestic demand as well as private and public sector spending, though the external environment remained weak.

Racial policies sap competitiveness

Ever since the launch of the New Economic Policy (NEP) in 1971, the bumiputras (sons of the soil)who comprise 65% of the population, have continued to enjoy positive discrimination compared to minorities such as the Chinese (25%) and Indians (7%). The rationale given at that point of time was that the Chinese and Indians had gained handsomely under the British dispensation. Initially, the privileges offered ranged from basic reservations in schools and entitlement for government jobs to specific employment guarantees and even equity shareholding stipulations for Malays in publicly-traded companies. It has been pointed out that the NEP encouraged crony capitalism by making cheap credit and large contracts available only to ethnic Malays. However, despite the disadvantage, non-bumiputra entrepreneurs such as Francis Yeoh and Ananda Krishnan run successful businesses in Malaysia.

Services sector needs a booster dose

The transition to a knowledge-based economic model is a natural progression in the evolution of any economy. Malaysia, too, has taken baby steps in this direction, though much more still needs to be done. Though services contribute more than 42% of the country’s GDP, most of this activity happens in traditional services, not in modern, high-margin businesses such as technology services where other Asian economies such as India have made much headway. Moreover, as a World Bank report pointed out, the productivity gap between manufacturing and services in Malaysia has widened in recent years.

However, Malaysia is trying its best to develop its services sector despite the severe shortage of “skillsets” required to deliver high-end services. An electronic business park christened Cyberjaya, a part of the ambitious Multimedia Super Corridor (MSC), is the crowning jewel in the government’s efforts to give a boost to high-tech services. The initiative seems to have borne fruit, judging by the big global tech firms and banks that have set up data processing centers and customer service points within the MSC. Though the jobs created so far are mostly at the lower end of the value chain, software developers have also set up shop, encouraged by low wages, affordable rent, and tax breaks.

Skilled workers, it is said, are the best resource any country can have. A shortage of skilled professionals seems to be the key factor which stands in the way of the development of the services sector in Malaysia. This may sound surprising for a country with a population of 30-million mostly educated and English-speaking citizens, but the quality of higher education in Malaysia leaves much to be desired despite the government earmarking 20% of its budget on education.

In Kuala Lumpur, a city with a population of 1.6 million, the tallest twin buildings in the world, the Petronas Towers, represent Malaysia’s soaring ambitions.

The bulk of Malaysia’s workforce consists of low-skilled Indonesian immigrants who produce cheap goods as well as Malaysians who do back-end jobs at data processing centers. Moreover, Malaysia seems to be losing out to Vietnam and Indonesia on labor costs. Thankfully, Prime Minister Najib Razak seems to have a good vision for the economy, aimed at the creation of millions of middle and high-income jobs. Still, Malaysia may have to go back to its schools to address the shortage of skilled labor and to bring back investor interest of the kind last seen in the 1990s.

The Najib Razak administration, which has been at the helm of affairs in Malaysia since 2009, has focused its attention on reforming the services sector. This included the scrapping of 30% equity ownership requirement for bumiputras or the ethnic Malays and other such groups in 27 service sub-sectors. New licenses were issued to foreign commercial banks and insurance companies.

Efforts are being made to encourage private-public partnerships in businesses to fast track Malaysia’s economic growth. The government is also focused on developing services sectors such as tourism and its corollary, medical tourism, offering quality health care, banking on in its reputation as a low-cost alternative to Singapore or Hong Kong. Education, widely seen as the economy’s Achilles’ heel, has received some attention as well, though much more remains to be done. Thanks to liberalization in the sector, foreign universities from Australia and Britain have set up full-service campuses in the country, competing with colleges and universities established by Malaysians. Here too, lower fees relative to western universities attract people from elsewhere in the Asian region to seek education in Malaysia.

As a World Bank report on Malaysia pointed out, skilled workers and professionals are integral to the development of modern manufacturing and services sectors. Encouraging productive foreign companies to set up their manufacturing bases in the country and attracting firms to develop the services sector to its full potential would increase productivity in both sectors. More workers would need to be hired and the wages would go up substantially, which would also help Malaysia escape the middle-income trap.

Banking on domestic demand, natural resources

For all the progress the country has made on other fronts, Malaysia primarily remains an export-oriented economy with a focus on manufacturing electronic goods. The obvious consequence of this over-reliance on exports is that a slowdown in its overseas markets would derail the country’s economic growth as seen during the financial crisis of 2009. But Malaysia has a leg-up over others as the economy can still fall back on natural resources such as palm oil, which is gaining in value thanks to increasing prosperity in India and China and consumer preference for healthy vegetable oils. Malaysia also stands to gain when the demand for natural rubber, an essential ingredient in tire-making, goes up.

As well, Malaysia enjoys a unique advantage compared to its neighbors such as Hong Kong and Singapore when it comes to size. The large domestic market offers a cushion when the external environment gets tough. Domestic demand, spurred by consumer spending, helps to keep the boat steady even in rough weather. As an Asian Development Bank report pointed out, Malaysia is a middle-income country with a record of good economic performance and poverty reduction. Domestic demand and investments have been driving the country’s growth over the years.

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